AltaCorp Capital analyst David Kideckel is staying cautious on Canadian cannabis company HEXO (HEXO Stock Quote, Chart, News TSX:HEXO) after its latest earnings, saying headwinds in the industry and share dilution are reasons to keep his \u201cUnderperform\u201d rating while sightly dropping his price target. Gatineau, Quebec\u2019s HEXO released its fiscal third quarter 2020 results on Thursday for the period ended April 30, 2020. The company saw net revenue improve by 30 per cent from the previous quarter to $22.1 million and an adjusted EBITDA loss of $4.3 million compared to a loss of $8.5 million over the Q2. Adult-use sales volume grew by 42 per cent sequentially to 9,338 kg while gross margin before fair value adjustments grew by seven per cent over the prior quarter to $8.8 million. HEXO incurred an inventory write-down of $0.2 million while operating expenses dropped to $26.8 million compared to $46.9 million a year earlier. In terms of its production, management said it has shifted towards those flower strains most in demand by consumers, with the company now working to get Cannabis 2.0 products on the shelves. On the COVID-19 front, management said demand has picked up, first due to stockpiling in March but then also related to overall increased usage during the stay-at-home period. HEXO said their goal is to be EBITDA-positive during the first half of its fiscal 2021. \u201cWhile we continue to operate during a pandemic, we continue to be cautious about future expectations.\u00a0 Our plans to achieve adjusted EBITDA positive in the first half of fiscal 2021 will depend on the growth of retail stores in our two largest markets, Ontario and Quebec.\u00a0It is difficult to determine the timing of new licenses for new retails stores in Ontario and the build out of additional stores in Quebec. We await additional information from the authorities of each Province and Territory,\u201d the company said in its press release. Kideckel said HEXO\u2019s quarter came in better than expected, with the $22-million top line beating his $16-million estimate and the consensus $20-million, while the adjusted EBITDA loss of $4.3 million was also better than his forecasted loss of $4.7 million and the Street\u2019s loss of $7.7 million. The analyst said he\u2019s encouraged by HEXO\u2019s better gross margin at about 45 per cent, which he said was likely driven by lower labour costs due to packaging automation and the company\u2019s cultivation rightsizing efforts focusing on selected strains. A couple of point of concern for Kideckel are the derivatives market, where HEXO lags behind other Canadian LPs, according to the analyst, and HEXO\u2019s ability to gain market share outside of the province of Quebec, with Kideckel saying that expanding its presence in provinces like Ontario and BC is \u201ccritical\u201d to the company\u2019s stated goal of becoming a Top 2 Canadian LP. \u201cIn our view, the limited retail infrastructure in these provinces may be a bottleneck for HEXO\u2019s expansion over the near-term,\u201d Kideckel said. \u201cThough we view the results as positive, we remain cautious due to the shareholder dilution caused by the conversion of a portion of HEXO\u2019s outstanding debentures at an exercise price materially lower than the Company\u2019s current market price,\u201d Kideckel said. \u201cIn addition, we believe that near-term headwinds affecting the Canadian cannabis industry, a lack of derivative products, and the COVID-19 global crisis continue to impose uncertainty to HEXO\u2019s outlook. As such, we have chosen to remain on the sidelines until the overall market environment improves and HEXO\u2019s management shows consistent execution,\u201d he wrote. The analyst\u2019s new 12-month target of $1.00 (previously $1.05) represented at press time a projected return of negative 22 per cent.